2023 started with a mirror image of the trends that prevailed last year: the US dollar is weakening, bond yields are falling and stocks are rising. Are we witnessing a classical positive seasonal effect or is the improving sentiment a reflection of a macroeconomic and fundamental outlook improvement? 

Our one-month tactical view is based on the weight of the evidence derived from the aggregation of our fundamental and market indicators. Compared to the previous months, we believe there is indeed a marginal improvement in some of our leading indicators (e.g macroeconomic outlook – see next section) while our coincident indicators (i.e market dynamics) continue to point towards positive developments in terms of trends, technicals and market breadth. 

As a consequence, we are upgrading our stance on global equities from “cautious” to “positive”. 

From a regional standpoint, we are shifting our view on Eurozone equities from unattractive to cautious (see asset allocation preferences  page 5). The European economy is benefiting from milder weather than expected and from the reopening of China. We note that valuations remain cheap despite the recent rally. We are upgrading EM Asia / China from positive to attractive. Our favourable thesis on this region is reinforced by the reopening of China after 3 years of strict lockdown. Chinese consumers have substantial savings; this should benefit not only the local economy but also the demand for domestic stocks. 

We remain positive on Switzerland and the US. We are cautious on UK, Japan, EM Latam and other EM.

In Fixed Income, we maintained a “cautious” stance on rates while upgrading credit from positive to attractive. Despite the recent tightening of spreads, the risk/reward remains attractive due to the high level of carry and lower volatility rate expectations. While we were already positive on credit, especially on the front end of the yield curve, we are moving to longer investments in the 5-10 year

Our tactical asset allocation process is based on five indicators. 

We are upgrading our Macro-economic cycle from “negative” to “neutral” as we believe that the growth / inflation context is becoming more favourable to risk assets (see details below). Other macroeconomic and fundamental indicators remain unchanged. 

The most dynamic factor of our process – market dynamics – remains firmly in “positive” territory. 

On an aggregated basis, our indicators are pointing towards a “POSITIVE” view on risk assets.

Global economic growth continues to slow down. However, we note that economic surprises are no longer negative in key economic areas, as the consensus already expects a significant economic slowdown. Moreover, a deep global recession looks unlikely: driven by a combination of China’s re-opening, falling natural gas prices (which is boosting European growth expectations) and a resilient consumer in the US and Europe, the market is being forced to upgrade its pessimistic growth outlook for this year. Peak recession fears may end sooner rather than later and the second half of the year could very well see a renewed pick-up in economic activity, precisely at the time when major central banks stop hiking. 

On the inflation side, latest data remain way above central banks’ target. Nevertheless, they are starting to cool down. U.S. Headline CPI for December came in right as expected with a 0.1% decline MoM, leaving the YoY number at +6.5% as expected. Energy was the biggest driver of the decline in the YoY print along with goods costs, which tumbled to its lowest since Feb 2021. However, services inflation soared to its highest since Sept 1982. Main reason: Shelter, which is still rising on a MoM basis. Shelter was the biggest contributor to Core CPI 0.3% MoM gain. New leases and home prices tend to lead the shelter CPI by several quarters, and both have been declining in response to the spike in borrowing costs. It might be later in the year, but housing inflation should start moderating, as suggested by the more timely data. 

Looking ahead, we might encounter a situation where inflation starts to cool down meaningfully, while the global economy stays relatively resilient. This outcome is a clear improvement versus last year and lead us to upgrade our macro view from negative to neutral. 

Central banks remain firmly on the path of rate hiking. To regain control on inflation, and preserve its credibility, the Fed has no choice but to tighten monetary policy until there are clear and tangible signs of a reversal in inflation dynamics.

Overall, the liquidity environment remains negative for risk assets as most developed markets are facing more rate hikes, quantitative tightening and global liquidity reduction. Nevertheless, we are getting closer to a Fed pause and the pace of rate

The blended MSCI USA earnings growth rate is +6.7% for 2022e and +3.6% for 2023e. We believe that expectations for 2023 are too optimistic as companies might face negative operative leverage: they will not be able to pass on more costs to the customers (lower nominal sales growth) while they will have to absorb higher wage and input costs. Historically, EPS have declined meaningfully during recessions.

In Europe, there is still some room for downward revisions as well (despite favourable forex effect). Indeed, after a 19.9% earnings growth expected in 2022e, MSCI Europe earnings are expected to grow by 0.9% in 2023e. This also looks too optimistic in light of recent PMI data and based on the probability that the European economy will slow down this year.

Global equity valuations have de-rated in 2022. In the U.S., the S&P500 multiple has de-rated by the same magnitude as seen in previous recessions. On a relative basis, Equity Risk Premium is a headwind now, as it has probably reached a bottom. We note that cash and bond yields are now competing with equities. Overall, this indicator remains NEUTRAL. Equity markets are less expensive than at the start of 2022, but they are not cheap either. However, there are clear differences across regions. For instance, Europe, UK and Japan 12-month forward P/E are much lower than the median P/E over the last 20 years. EM Asia is not expensive either. 

Our market dynamic indicators are in deep positive territory – and this applies to both our U.S. and European proprietary models. The S&P 500 just broke its 200-day (still falling) moving average. It is above the 100-day and 50-day moving average. Other indicators are in positive territory as well. An interesting signal is the continuous improvement